Monday, July 18, 2005

The following is a letter written in 2024 to a writer seeking information on the unfolding energy crisis from a newly appointed U. S. member of the hastily formed International Committee on the Energy Emergency.

Dear Robert,

Your question about how the world reached such a crisis in energy is both easy and difficult to answer. The easy answer is that we have been in an energy emergency for more than a decade without even realizing it. We simply mislabeled it as solely an economic problem. The more difficult answer must trace the events of the last 20 years in order to provide the background you will need to understand our current predicament. To that end I decided to put my thoughts into writing since the explanation is a fairly lengthy one.

You will recall that at the beginning of this century a small, but well-informed group of petroleum geologists began to garner increasing public attention with their warnings about world peak oil production. They were aided by oil prices that rose from only $10 a barrel in 1999 to almost $75 at the beginning of 2006. Everyone wanted to know, "What's causing these high prices?"

The usual suspects were trotted out--OPEC, demand from China and India, the oil companies, the government, oil speculators, and a temporary shortage caused by low investment in oil exploration. In this environment the idea that the world was approaching its all-time peak in oil production began to gain some currency. Yet, even after hearing of peak oil, the public remained confused about its significance and unsure which of the many explanations concerning high oil prices they should accept. And, they were further confused by contradictory reports that the world, in fact, had huge and growing reserves of oil, and that therefore, prices would soon decline. While even government and international agencies acknowledged that oil would peak someday, they believed such a peak would not come until the mid 2030s. How mistaken they were!

As prices continued their upward trend, the notion that a genuine energy crisis existed began to take hold. By 2008 world economic growth began to slow as oil prices reached $95 a barrel. This price was a little above oil's all-time inflation-adjusted high. Many commentators were quick to point out that this mattered less than before because the world economy was on average using far less oil per unit of output than in used to. Their explanation, of course, obscured the fact that in absolute terms the world was using oil at its greatest rate ever.

Although the optimists were wrong about the price of oil, they were right about new supplies rising to meet demand--or rather almost meeting it. For even as production rose, demand kept rising faster which, of course, expressed itself in higher prices. But, economists insisted that it was only a matter of time before high prices would be their own undoing as the inevitable new supplies flooded the market.

You'll recall that at the beginning of 2009 a long-simmering concern about Iran's nuclear capability came to a boil. The new American president, who seemed intent on establishing his military bona fides, ordered a surprise air attack on suspected Iranian nuclear installations within days of assuming office. I use the word "surprise," but it many ways it could hardly have been a surprise except for the exact timing. The United States had been making veiled threats about an attack for four years. Perhaps after so many threats without any subsequent action people stopped believing the Americans would actually attack. The Iranians, of course, vehemently denounced the American attacks, but strangely said nothing about how they planned to respond.

Then, oil tankers in the Persian Gulf started to disappear. It was soon clear that the Iranians were sinking them, but the Iranian government said nothing. The Americans responded with more air attacks. By this time, however, all tanker traffic in the gulf had ceased. Oil futures catapulted upward and now traded at about $165 a barrel. The Iranians remained silent even as the Americans vilified them nightly in the press. Across the Arab world, street demonstrations denounced America and its new president while providing the usual scenes of flag burning.

You can imagine what a shock this was to the world economy. At first, there were gas lines everywhere, but then they quickly faded away. People found that they didn't really need to sit in line for gasoline which they could not afford anyway. Prices of everything jumped overnight. All those protestations by learned economists that we were now much less dependent on oil made little difference to actual consumers. They were suddenly hit with a huge reduction in their standard of living. They had to spend a lot more money for energy and that meant they had less money for everything else.

The Americans declared that all shipping in the Persian Gulf would now be protected by the U. S. Navy. The navy arranged to have all oil tankers and other merchant vessels reflagged with the American flag as the United States had done once before during the Iran-Iraq war. Tankers began to move back into the Gulf and prices fell sharply reaching $80 a barrel at one point as traders sold and sold. No sooner had the oil started to move out of the Gulf than a few tankers were again sunk, this time by small boats manned by suicide bombers who had eluded the large navy warships. That shut down tanker traffic for good. Insurance companies refused to cover Persian Gulf-bound tankers, American flag or no.

Oil shot back up to $202 a barrel at one point and then settled at about $180. And, there it stayed week after week. European navies came to help, and the U. S. Navy sent reinforcements to try to stabilize the situation. All of this took several weeks of frantic negotiation and positioning. Perhaps the most important players were the insurance companies which had to be absolutely convinced that no suicide bombers would make it through. Real progress came when the EU and the U. S. agreed to bear the total cost of any bomb-related sinkings. Sailors could only be lured into manning Persian Gulf-bound tankers with quadruple the normal wages and large life insurance packages to protect their families. These wages and insurance packages were heavily subsidized by both governments.

By this time the world economy was careening into a recession. World stock and bond markets were sinking. Efforts by the major central banks to reverse the downtrend only seemed to make it worse as traders worried that all the easy money and credit would only stoke inflation further. If the problem had only been oil prices, perhaps the economic damage could have been limited. But, the U. S. dollar had been in a precarious position for years. Huge dollar holdings by Asian central banks had been the only thing keeping the dollar's value from declining too precipitously. Now, the banks were powerless against traders who simply didn't want to own anything denominated in dollars. Eventually, some smaller Asian central banks in Korea, Singapore and Taiwan began to see that the situation was hopeless. They unloaded their dollar holdings and this spawned a second round of dollar selling. The dollar fell by 35 percent within three weeks. There it stabilized for a few weeks before falling another 20 percent in a second frenzy of selling related to the ongoing debacle in the world markets.

The combination of a slowing world economy, a dollar meltdown and a sudden megaspike in oil prices was simply too much. What had looked to be a bad recession quickly turned into a depression, a highly inflationary one as it turned out. Prices rose 20 and 30 percent on just about everything across the board except for oil products themselves which in many cases doubled. The general price hikes were exacerbated in the United States by the falling dollar. U. S. consumers were seeing prices rise 50 to 60 percent almost overnight.

The worldwide financial crash and the high inflation that accompanied it destroyed the savings of much of the world's middle class. Many rich people also lost considerable wealth. Those rich people, however, did not face the problem that so many others were facing now, namely, how to pay for life's necessities: food, shelter, transportation, heat, and clothing. Only a very narrow group of investors saved their skins with prudent investments in gold bullion and oil-related stocks and trusts. Hedge funds practically disappeared overnight. Even many of those which had bet on the right things were wiped out because they used derivatives--paper promises, really--to do so. After the crash most of the banks and brokerages on the other side of those derivative trades were unable to make good on their losses.

To everyone's surprise within a few months the world economy began to revive somewhat. Oil prices came down all the way to $100 a barrel. (With the dollar halved in value, the real price would have been comparable to about $50.) But, the mild recovery stalled and the oversupply of everything--copper, pulp, steel, autos, new homes, coal, computer chips, manufactured goods of practically every kind--began to weigh on markets. The central banks kept trying to pump up the money supply and make loans easily available, but it was to no effect. Businesses and individuals simply did not have enough confidence to borrow and spend. And, their remaining purchasing power had been badly eroded.

Within a year unemployment in Europe moved to 18 percent. In the United States, official unemployment reached 11 percent, though most believed it was actually double that. China and India were reeling without a plan for the millions of urban industrial workers who had no jobs. The slump resulted in riots in some Chinese and Indian cities, riots that ended with the deaths of many at the hands of both rioters and police.

The 9/11 terror attacks had prompted increasing military action by the United States and Great Britain including the invasion of Iraq in 2003. In the face of a ruined world economy it looked at first as if these military operations might intensify. But, as a confrontation between the United States and North Korea loomed, China occupied North Korea on the pretense of protecting it from an American invasion. In reality, North Korea had become too dangerous even for China. Soon, the North Korean government was replaced by one more to China's liking. The North Korean army was reduced in size and its nuclear weapons dismantled under the watchful eyes of international inspectors. This move seems to have been the one that halted major foreign military operations by the United States and Britain from that time until the present.

On the economic front, protectionist measures were imposed everywhere and helped to cripple the occasional mild recoveries. This was the world in which government economists declared that there was now an oversupply of almost everything including oil. In a very narrow technical sense, they were correct. The marketplace was simply not demanding as much oil as it used to. In addition, the high oil prices of the latter part of the previous decade had led to many energy-saving advances and a move to more efficient hybrid cars and trucks. Some uses, such as heating oil for homes disappeared in many parts of the world. Few people wanted to be held hostage to oil for heat. Much like the early 1980s, oil consumption actually declined even as new supply appeared to be ready to come onto the market.

In the aftermath, one would have thought that investment in alternative energy sources would have been increased. But, those of us who said that this economic downturn was only a temporary reprieve from an oil peak were ignored. Instead, many cash-strapped governments ceased all subsidies for wind, solar, and energy conservation. Several, however, retained their by then sacred subsidies for biofuels, essentially another farm subsidy. Some incentives for nuclear power were rescinded around the world, but existing giveaways to the coal and oil industries in the United States continued.

The oil glut was on.

For almost 10 years the on-again, off-again economic recovery bedeviled countries and their governments. The usual tools of fiscal and monetary management no longer worked as expected. But, even so, economic activity was actually ratcheting up very slowly. In 2019 life seemed to be returning to what people used to call normal. Unemployment had been dropping for two years now in most countries, and there was a whiff of prosperity in some major cities around the world. The following year the world economy began to take off growing by four percent. That growth rate has been exceeded in each of the years leading up to today.

Three years ago oil was only $54 a barrel (barely $18 if adjusted for 2009 dollars). But yesterday it stood at $378 a barrel and, of course, everyone is afraid that we may slide into another long, deep depression as a result.

Now here is the key point. Oil consumption in 2009 reached a little over 95 million barrels per day. It declined to 85 million barrels per day by 2014 where it stalled until 2019. Since then oil consumption has been growing slowly at about 2 percent per year until now when we've reached 94 million barrels per day.

I believe that we will never see 95 million barrels per day. That means the peak in world oil production was in 2009. The events of that year masked this fact and prevented the world from facing up to it squarely. Few preparations have been made for this moment. Yes, we are even more efficient with oil than before, and we've made some strides in deploying alternative energy, especially in Europe. But, in the overall, the world is faced with the same problems we would have faced in 2010 had we not had an economic downturn.

The American and worldwide transportation systems remain woefully dependent on oil-based fuels. Agriculture continues to be drenched in oil derivatives for fuel, pesticides and herbicides. Manufacturing industries need oil to make fibers, petrochemicals, plastics and a myriad of products that we are still all heavily reliant on.

I'm afraid the prosperity that everyone was hoping for is about to be derailed.

With my appointment to the commission I think the president is acknowledging that voices like mine were wrongly ignored. Even in the face of the previous decade and a half of economic hardship, the United States and the world should have been working diligently on alternative fuels and on building new transportation and agricultural systems. Those efforts could have provided employment for many, stimulated the world economy, and helped us to avert today's crisis all at the same time. But the political will was not there. And, it wasn't there because the understanding wasn't there.

Now, we face a gargantuan task. I believe the world is up to it. It will challenge every assumption we have about the way we live--about energy, about work, about government, about war versus cooperation and sharing, about consumption as the primary value.

Robert, your work as a writer will be more important than ever in bringing understanding to all those who must help make the needed changes.

Thanks for your interest in the Committee and especially, for trying to understand how we as a human community came to this point. I hope you also will spend some time exploring how we can make the needed energy transition.

Best wishes and good luck with your article!

Regards,

William T. Harwood, Ph.D.Member, International Committee on the Energy Emergency

(Comments are open to all. See the list of environmental blogs on my sidebar.)

17 comments:

The Great Herd moves on, grazing off what the ground gives them.There are many. 6 Billion by one count.Those in the front are fat and happy, having first found the easiest grasses.They look only at the feast in front of their faces.Those in the back look forward, hoping to get a better slice of the pie in the future.Near the advance fringe, a scout comes back. Worry wears on his face."I have found a large ledge," he begins.So what? asks another.There are no grasses beyond the ledge.We will find alternatives, says a third.I fear there are no alternatives this way.What are you saying?The herd is moving this way and it is a ledge with no future.They will see it shortly and turn on their own.What if they do not?Who cares?They will push us off with their momentum!They are many and we are few. Their sheer mass will shake the earth and push us over!Oh. Good point.Well, then. We will just tell them.We do not know how to speak to the masses.How hard can it be?They are short in attention and great in greed.OK. We will break them in slowly.First we will warn them that an important message comes their way.Yes. Good idea.We will speak in simple words.Yes!We will tell them someone who knows the futures stands here.Pass it back.Tell them, "Great Prophet Ahead".Go it.Hey you guys, Great Profit Ahead !!!

I guess we could all quiblle about the exact timing but its beside the point really.

Any suggestions as to how to get governments to start pursuing renewable energy alternatives in earnest ? Europe and Japan seem to be making some progress (no doubt recognising that their share of the oil cake will shrink before the US's does).

Remember the Great Herd on the Ledge?Well, don't call them "stupid".Some near the back end of the freedom march are thinking to themseleves, "You know, it won't be so bad if the front half of the herd goes over the Ledge. Then their will be more grass for me and my kin. Maybe I should encourage the front end to run faster towards the edge? Besides, they do not worship my diety."

So yes, how do "we" encourage "our" government to pay more urgent heed to the precipice ahead?

I think you're exactly right about the volatility of future oil prices. We're likely to see bursts of conservation that temporarily push the quantity of oil consumed down below the quanty produced several times over the next decade or two.

I'm inclined to quibble about the likelyhood of inflation. When the cost of energy goes up, the cost to produce everything goes up as well--but that doesn't necessarily translate into higher prices. With consumers already spending lots more money directly on energy, they're not going to have enough money pay higher prices for that other stuff. I think the most likely scenario is going to be sharply lower corporate profits as businesses get squeezed between higher costs and consumers who can't afford to buy. Unless the Fed tries to "fix" the dropping standard of living and falling corporate profits by boosting the money supply, I don't think higher inflation is the most likely scenario.

Thanks Kurt I keep pieces about peak oil for 2 months now but yours i keep it all because it is brilliant and not so novel as it looks. its a PHD about the future. i am very sorry of course for you to be the truth.

Thanks Kurt I keep pieces about peak oil for 2 months now but yours i keep it all because it is brilliant and not so novel as it looks. its a PHD about the future. i am very sorry of course for you to be the truth.

Two points, Kurt.First, your article outlines in great detail exactly why the US CANNOT bomb Iran, and unfortunately that is what will make Iran strong in the next few years.Secondly, ( I got this one from my barber ) people are as addicted to the petrol powered society as a gambler is to gambling; so the demand decline will not be that steep; and when any decent demand does return in a recovery the available oil will never be anywhere near the original peak; more like two-thirds of it.Once a depression hits, there could be continual resession/depression for decades.

A insightful vision of the future. I also think that the ultimate peak in production will occur partially because we won't be able to afford more oil. By the time the economy recovers the geological fators will have made a higher peak impossible.

One point-I hear people say we use oil more efficiently now. Probably partialy true, but we import a lot of things from China and its those manufactured goods that take oil to produce. Thus we are not as efficient as we think.

Just a quick response to Bradipo's point about inflation (and I know inflation/deflation is a huge debate right now):If fossil fuels are, directly or indirectly, a necessary input for just about everything the modern world produces, and the supply of those fuels begins to wane, surely the logical result is a corresponding fall in the supply of goods. If the same amount of money is chasing fewer goods (globally), aren't higher prices inevitable? Yes, conservation/demand destruction can delay this for as long as the rate of demand decrease matches the decline in fuel production, but it's hard to imagine global demand voluntarily falling for more than a couple of years (especially since the American way of life is non-negotiable, lol). As you point out, companies can absorb the increase in their input costs by slashing profits, but only up to a point, and it's arguable that we've already reached that point - see eg articles about how truckers are struggling to make any money because of 'high' fuel prices. They've already absorbed all the input inflation they can, further increases will have to be covered by their customers.

"With consumers already spending lots more money directly on energy, they're not going to have enough money pay higher prices for that other stuff."This is true. Your inference that consumers' inability to pay high prices would make those prices fall is flawed though. If the high prices for 'other stuff' are because of high energy costs, and the producer has already shouldered as much of that burden as possible, there are two possibilities:1. He lowers/stops raising prices [as you suggest]. He's now losing money on everything he produces, and because he's willing to operate at a loss, everyone will want to buy from him. The more he sells, the quicker he's bankrupt.2. He realises that his company is no longer economically viable, and stops production voluntarily (maybe switching to a different industry where he believes profits are still obtainable).

I'd contend that 2 is more likely than 1 for any capitalist business, with the possible exception of the airline companies which seem determined to haemorrhage cash for as long as it takes in a bid to stay in business until the fuel situation goes 'back to normal', though even they seem to have reached their pain threshold.Ultimately, money is a way of rationing limited resources, and the more limited those resources become, the greater the proportion of the money supply you'll need to buy any of them.

Great attempt at predicting the future...this theme should become a whole blog unto itself so others can weigh in on their take on the future. One significant point you missed, and many Peak Oilers miss, is the impact on the food system. Without cheap oil, food prices will climb directly with oil price and transportation of food long distances will quickly disappear. The result being declining food availability and more human power having to go into farming to make up for less oil dependent machinery. The panic that will result from this seems to be intentionally ignored in the Peak Oil community. You should factor in food shortages and high food prices into your 'economic forcast' for the future

I appreciate the perspective from a 20 year window, and the "double peak" - 2009 and 2024.

It is almost optimistic if we make it that long without massive poverty/starvation, but also pessimistic that we'll not do any better after the 2009 as with the 1979 peak. (Ironic that you make Iran the center again!)

A world economic recession is the wildcard in any peak oil prediction, and it makes sense to predict multiple oscillations as new crises rise and fall.

My message focus lately is looking for advice to offer people willing to listen.

I'd be interested in a fable piece that contrasts individual perspectives to your visioned 20 years - from those "building their boats" to those who "trust those in power will won't let it happen."

Hi there...that was a well-written piece, but even if we somehow "avoid" Peak Oil in 2009, the Employee Retirement Income Security Act kicks in in 2015 and 2016 in the US - this is when most Baby Boomers turn 70 - and they will be forced (by law) to take their Superannuation out of the US stock-market.

This will cause the Second Stock-Market Crash, worse than 1929, and it will be just as widely felt, too, and will usher in (Peak Oil or NO Peak Oil) the Second Great Depression, which will last a lot longer & be a lot deeper than the last one.

Trouble is, FDR was able to spend his way out of the 1930's Great Depression by borrowing.

That's no longer an Option for the US.

OH, and in 2007, the US will become (for the first time in nearly 100 years) the World's Second Biggest Economy.

China will be the first biggest. You can thank the Economic Rationalists and Freemarket fundamentalists for that lil beauty.

A bit longer and slower than I'd been thinking, and pretty confident on the global warming and food supply front too, but great detail otherwise. I'm with Mark Morford and the special Koolaid myself, fully expecting to be one of those who might otherwise be foraging desperately amongst the torched babies and the giantatomic cockroaches